It matters which lies a culture founds its social infrastructure upon, if for no other reason, because the agreed-upon infrastructural lies help determine which path the society will trod on its journey through history.

During the Cultural Revolution, the Chinese agreed amongst themselves to believe the fiction that man can be made altruistic, concerned only with the welfare of society, of the collective, in which he existed.  China fashioned a society mostly closely resembling in nature an ant hill, with the Chinese Communist Party its queen.  All were to zealously serve the Revolution.  The CCP would determine how an individual would serve, and decide upon whom served the Revolution felicitously, and who did not.  Those that the CCP determined were not good revolutionaries, or that stood in the way of the Glorious Revolution, paid dearly, often with their lives. 

But men are not ants.  Unlike worker ants in a colony, human beings have the individual capacity for reproduction, and are therefore innately and selfishly devoted to their own survival and propagation prospects.  The lie of human altruism that Chinese Communism embraced would ultimately force the unraveling of the society upon which it was founded.

Mao’s Little Red Book was the bible of the Chinese Cultural Revolution.  Ordinary Chinese that wished to garner favor with the revolutionary authorities, or to just demonstrate their allegiances so that they weren’t harassed, carried it with them everywhere.  Knowing and understanding its tenets was required of every Party or Red Army aspirant.  But people who wished to achieve Party and Army membership did so for selfish reasons, in order to enhance their social status and enjoy the spoils that such membership afforded.  People were forced to lie about their altruistic nature, proving devotion to the Communist state by superficially internalizing Mao’s teachings, in order to selfishly acquire the meager benefits the state could bestow. 

It all ended when Mao died.  To its credit, after Mao’s death, the CCP realized that it could no longer restrain the selfish impulses of its people.  Madame Mao, the main enforcer of the Cultural Revolution lies, was banished, and China gradually unleashed the creative power of its people in order that they might enhance their survival and propagation prospects through efforts that did not necessarily include insincere concern for the Revolution.   The Chinese social experiment as a human ant colony was over. 

In the U.S., for at least the last three decades, American society, so far as its economic fortunes are concerned, has more or less depended on belief in the fiction, promulgated and encouraged by the Federal Reserve, a litany of other politicians and the economics fraternity, that money buys goods and services.  It doesn’t.  Goods and services buy goods and services.  Money is just a medium of exchange and a temporary store of value.  While there has lately grown a number of people who reject the fiction, not least Republican presidential candidate Ron Paul, who has unfavorably compared the Fed to the Soviet politburo, the vast majority of the public have internalized and accepted the idea that monetary manipulations determine real economic outcomes.  Ironically, even the Fed admits that it has no such power. 

Underlying the fairly recent phenomenon of believing that money buys goods and services is the more durable assumption that economic growth is ever and always the end to which management of aggregate economic performance (belief in the possibility of which is another fiction) should strive.

As the Fed’s pronouncements on the economy and their planned monetary manipulations comprise something of a Little Red Book forming the foundations of the lies upon which American economic performance depends, it might be profitable to closely examine what the Fed has recently said to get an idea of what, exactly, is the fiction we are being asked to believe.  First, parsing the FOMC statement released yesterday (January 25, 2012):

Information received since the Federal Open Market Committee met in December suggests that the economy has been expanding moderately, notwithstanding some slowing in global growth. While indicators point to some further improvement in overall labor market conditions, the unemployment rate remains elevated. Household spending has continued to advance, but growth in business fixed investment has slowed, and the housing sector remains depressed. Inflation has been subdued in recent months, and longer-term inflation expectations have remained stable.

The idea that economic growth is necessarily a social goal worth striving for, implied by the terms (“expanding moderately”, “further improvement”, “unemployment rate elevated”, “spending continues to advance, but”, etc.) used to describe it, is an unfounded premise upon which the idea of focused monetary manipulations depends.  What if economic stasis were the goal?  Does economic growth necessarily mean that the welfare of the individuals and households comprising the society is improving?  As America’s experience over the last three decades attests, economic growth can be robust according to measures evaluated by the Fed, while individual economic well-being improves very little.  All the “economic growth” of the last three decades, as measured in the dollars the Fed continually manipulates, hasn’t changed much of anything of the life of the average American since at least the 1970’s.  What if the measure were per capita income and its distribution?  If an economic system exists to serve the individuals and households comprising it, i.e., if an economic system is not imagined as a human ant hill, shouldn’t the metric used to judge its performance be how well it maximizes the welfare of the maximal number of its participants?

Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee expects economic growth over coming quarters to be modest and consequently anticipates that the unemployment rate will decline only gradually toward levels that the Committee judges to be consistent with its dual mandate. Strains in global financial markets continue to pose significant downside risks to the economic outlook. The Committee also anticipates that over coming quarters, inflation will run at levels at or below those consistent with the Committee’s dual mandate.

Employment and price stability are not correlated.  Employment can be low, while prices are rapidly increasing (the seventies); it can be high while the rate of price increases is declining (the eighties and nineties), or it can be low while prices are declining (the recent so-called Great Recession).  The two are not correlated, so can’t be causing each other, but it is a corollary of the fiction that money buys goods and services to believe that changes in monetary values determine employment levels. 

To support a stronger economic recovery and to help ensure that inflation, over time, is at levels consistent with the dual mandate, the Committee expects to maintain a highly accommodative stance for monetary policy.  In particular, the Committee decided today to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that economic conditions–including low rates of resource utilization and a subdued outlook for inflation over the medium run–are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014.

“Accommodative” is code for devaluation of the currency in hopes that prices will increase, in hopes that aggregate economic growth will thereby obtain.  But if prices changes and employment levels are not correlated, as previously pointed out, and as anyone with just a bit of knowledge of economic history can easily discern, pursuing a strategy of accommodation is a chasing after the wind.  It is an attempt to appear as if something is being done while not doing anything. 

The Committee also decided to continue its program to extend the average maturity of its holdings of securities as announced in September. The Committee is maintaining its existing policies of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction. The Committee will regularly review the size and composition of its securities holdings and is prepared to adjust those holdings as appropriate to promote a stronger economic recovery in a context of price stability.

Continuing to “reinvest” in the housing market via mortgage-backed securities is an attempt to forestall further price declines in one particular sector of the economic system, which is only possible if it is believed that money buys goods and services.  If instead, it is acknowledged that money buys nothing, the strategy does nothing but change the overall price level.  If the price of a three bedroom, two bath house nominally increases, so too will the nominal prices of other goods and services, such that is worth roughly the same quantity of goods and services as before. 

But what of the long-term prognostications of these wizards of economics and finance?  What say their Little Red Book about the future?  From their “Longer-Run Goals and Policy Strategy”, also released on January 25, 2012:

Following careful deliberations at its recent meetings, the Federal Open Market Committee (FOMC) has reached broad agreement on the following principles regarding its longer-run goals and monetary policy strategy. The Committee intends to reaffirm these principles and to make adjustments as appropriate at its annual organizational meeting each January.

The FOMC is firmly committed to fulfilling its statutory mandate from the Congress of promoting maximum employment, stable prices, and moderate long-term interest rates. The Committee seeks to explain its monetary policy decisions to the public as clearly as possible. Such clarity facilitates well-informed decisionmaking by households and businesses, reduces economic and financial uncertainty, increases the effectiveness of monetary policy, and enhances transparency and accountability, which are essential in a democratic society.

What they really mean is that we understand that some Americans have grown skeptical at their ability to create economic growth where none obtained before.  As such, they think it prudent to telegraph loudly and clearly which lies we will expect folks to henceforth believe, and for how long, as it is imperative that everyone steadfastly believes in the illusions they are trying to create, if they are to have any hope of creating them. 

Inflation, employment, and long-term interest rates fluctuate over time in response to economic and financial disturbances. Moreover, monetary policy actions tend to influence economic activity and prices with a lag. Therefore, the Committee’s policy decisions reflect its longer-run goals, its medium-term outlook, and its assessments of the balance of risks, including risks to the financial system that could impede the attainment of the Committee’s goals.

They’re actually saying, though they won’t directly admit as much, that they can’t control price levels for goods and services, or employment levels, or the price of money, except in the short-term, and even then, with a substantial lag. 

The inflation rate over the longer run is primarily determined by monetary policy, and hence the Committee has the ability to specify a longer-run goal for inflation. The Committee judges that inflation at the rate of 2 percent, as measured by the annual change in the price index for personal consumption expenditures, is most consistent over the longer run with the Federal Reserve’s statutory mandate. Communicating this inflation goal clearly to the public helps keep longer-term inflation expectations firmly anchored, thereby fostering price stability and moderate long-term interest rates and enhancing the Committee’s ability to promote maximum employment in the face of significant economic disturbances.

The inflation rate over the short, medium or long-run is ever and always a monetary phenomenon.  It is never caused by demand fluctuations, because if demand, for example, increases to cause price increases, that is not inflation.  That is simply markets adjusting according to supply and demand metrics. 

Incredibly, the Fed sees no irony or logical inconsistencies with declaring that inflation at a rate of 2% is reflective of “price stability”.  True price stability implies that except for changes in underlying market conditions (expanded supplies, improved technologies, etc., increased uses to which a good or service might be put, etc.), prices do not change. 

Until the Fed began actively manipulating the money supply to attain its goal of steady inflation, prices were more apt to decline overall than to increase.  Why?  Because technological innovations were continually bringing the costs of production down.  Yet the Fed constantly fights the goods and services markets, attempting to impose inflation upon them, like economic castor oil, whether they need it or not.

The maximum level of employment is largely determined by nonmonetary factors that affect the structure and dynamics of the labor market. These factors may change over time and may not be directly measurable. Consequently, it would not be appropriate to specify a fixed goal for employment; rather, the Committee’s policy decisions must be informed by assessments of the maximum level of employment, recognizing that such assessments are necessarily uncertain and subject to revision. The Committee considers a wide range of indicators in making these assessments. Information about Committee participants’ estimates of the longer-run normal rates of output growth and unemployment is published four times per year in the FOMC’s Summary of Economic Projections. For example, in the most recent projections, FOMC participants’ estimates of the longer-run normal rate of unemployment had a central tendency of 5.2 percent to 6.0 percent, roughly unchanged from last January but substantially higher than the corresponding interval several years earlier.

It is quite magnanimous of the Fed to admit it doesn’t control employment levels—they aren’t “largely determined by nonmonetary factors”—in the long-run, they are solely determined by nonmonetary factors.  Labor may be nominally paid in money, but it is factually paid in goods and services. 

In setting monetary policy, the Committee seeks to mitigate deviations of inflation from its longer-run goal and deviations of employment from the Committee’s assessments of its maximum level. These objectives are generally complementary.  However, under circumstances in which the Committee judges that the objectives are not complementary, it follows a balanced approach in promoting them, taking into account the magnitude of the deviations and the potentially different time horizons over which employment and inflation are projected to return to levels judged consistent with its mandate.

The Fed really, really, really wants everyone to believe it controls real economic outcomes.  Though it has admitted in previous paragraphs that it does not control employment levels (and implicitly thereby, aggregate economic output—the two are almost perfectly correlated), it still alleges it can balance all these economic factors on the head of a pin in order to achieve nirvana—aggregate economic growth—supposedly the result when its dual mandates are achieved.  Nothing could be further from the truth.

Allow me to finish with some charts, ironically provided by the Federal Reserve Bank of St. Louis, on aggregate economic measures over time, revealing how little control over things, outside of nominal prices, the Fed really has.  The first is of the Consumer Price Index:

Graph of Consumer Price Index for All Urban Consumers: All Items

 

It’s pretty much a straight, uniformly-sloping upward line since the early seventies.  Indeed, inflation is ever and always a monetary phenomenon, thus it appears that the Fed, which controls the monetary levers, has done just as it desires, propelling prices ever higher.  The last little blip down is probably because the Fed used up its ability to jack up nominal prices of goods and services through interest rates (it hit the liquidity trap), and had to resort to simply printing new bills and pixels (to expand its balance sheet three-fold).  Thus, there was a longer-than-usual lag in effect than before, as it had previously refrained from creating new claims on taxpayers out of thin air, as printing money entails.

Now, the Fed Funds Rate over time.  Remember that the shaded areas indication recessions, i.e., contractions in output.

 Graph of Effective Federal Funds Rate

Did the Fed prevent any recessions with its monetary manipulations?  How strongly correlated are consumer prices (previous graph) and the Fed Funds Rate?  Indeed, hardly at all, begging the question, what is it that made prices consistently rise over the last forty or so years?  Just a steady diet of more money than was needed to keep them consistently rising, no matter the level of output?

Now, Employment:

 Graph of Civilian Employment

And the correlation between the Fed Funds rate and Employment is?  Exactly, not much, if at all.

Thus the main vehicle through which the Fed seeks to influence real economic outcomes—the Fed Funds Rate—shows little to no correlation with the levels of either employment or consumer prices.  Though bouncing around a bit with recessionary declines (the latest of which hasn’t been surmounted), employment marches steadily upwards, and so too, do prices.  The Fed Funds rate, meanwhile, is all over the map.  To believe that it has been so expertly managed, up, down and sideways, to cause Consumer Prices and Employment to so reliably climb, requires belief beyond understanding.

Yet still, the Fed peddles it and we buy it:  Money buys goods and services and should therefore be carefully managed to promote growth in the level of goods and services being bought and sold.  That money buys goods and services is a lie.  That it should be managed to achieve the greatest possible growth in output is a false premise.  That money could be managed to promote growth is a lie founded on a lie, buttressed with a false premise.

All the Fed has managed to achieve in over a half-century of active management of the money supply is a steady decrease in the purchasing power of money, and that, apparently as a by-product of its activist interventions to  decrease the value of money any time it appeared that contracting output might render it more valuable.

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